The Era Of 'Macro' May Finally Be Coming To An End

Astrophotographer Brett Schaerer took this photo of the
moon, Venus, and M44 from Portland, OR, on September 12,
2012.Brett
Schaerer

Ever since the financial crisis, all of the big themes in markets
have all been macro oriented: Currencies, central bank moves,
interest rates, global trade, sovereign credit risk, and so
forth.

In this environment, there's been a remarkable consistency in how
things trade. Risk on: Stocks, commodities, the Australian dollar
go up. Risk off: Treasuries and the Japanese yen rally. That's
been it.

As 2012 closes out, there's evidence that the age of macro may be
coming to an end for now.

One of the biggest surprises this year was the bear market in
volatility. Massive liquidity programs from global central banks
trumped tail risks. A rise in volatility next year would not be a
surprise, particularly in the FX market. With policy rates around the world
close to zero, the new automatic stabilizer is FX. But
perhaps the biggest surprise in 2013 and beyond is that the era
of tail risks is coming to an end. Note that the pair-wise
correlations of all S&P 500 stock combinations has fallen to
30%, down from a high of 70% in 2011. This indicates that we are
close to being in a differentiated/stock picker’s
market.

As the chart shows, the S&P is getting close to territory
that can be characterized as a "stock-picker's market", whereby
it pays to be a good stock selector, rather than knowing whether
it's Risk On/Risk Off.

BofA/ML

Mark Dow
made a similar observation in his end-of-year assessment of
markets:

First, it really is a stock-pickers’ market. It’s a phrase I
don’t like because it is overused by guys on TV who want to sell
you there stock-picking services. Somewhat fitting I guess that
just as everyone scrambles to go macro, stock picking seems to be
working. On what basis do I say this? Look at the index of
implied correlation of the elements of the S&P, to start
with.

The implied correlation amongst S&P components has been
heading downward all year. In case you can’t make it out, it
falls from just above 80 percent last January to just below 65
percent in December. This tends to be both a bullish sign as well
as an indication of less ‘macro’ and more ‘stock picking’.

Second, we have seen of late many of the crowded positions
underperforming and many of the hated positions doing better.
Precious metals and AAPL crop first to mind, but there are many
others. And some of the hated positions, e.g. RIMM, NOK, X, have
been perking up. I don’t know how long this lasts, but it is the
theme for now and it makes no sense to fight it.

Big picture, this is consistent with two big economic themes. One
is that central banks have done a good job quelling crises, and
few appear to be imminent. Of course we could always get hit out
of left field by something nobody is expecting, but for the first
time in years, there's very little talk about bank or nation
failure in the US or Europe. This is a major change.

That lead to the major "bear market" in volatility that people
are talking about, as evidenced by the fact that the VIX has been
quiet all year, at least as compared to the last several.

In addition to the diminishment of tail risk (and again, the
Fiscal Cliff or something else, could ruin all of that if it goes
badly), there are signs of a return to above-trend growth, of the
private sector really kicking into gear. That's Goldman's
big call for 2013 anyway.

There's a good possibility that 2012 will be a bookend on the age
of crisis (2007-2012 will perhaps be an important period in
economic history) and if that's the case, than the purely
macro-driven markets may finally start to give way.